The voices of Tax Policy Center's researchers and staff
While the House-passed plan to make permanent the individual tax cuts of the Tax Cuts and Jobs Act (TCJA) is getting the most attention, the House also voted last week for a second bill as part of its Tax Cuts 2.0 plan. And unlike the main bill, this one--or at least some elements of it--has some chance to eventually become law.
The bill, called the Family Savings Act of 2018, is a collection of17 changes to tax-advantaged savings accounts. Most are narrowly targeted with only limited effects. But a few are notable, including one that exempts some older adults from having to take minimum annual distributions from retirement accounts and another that makes it easier for small firms to join together to create multi-employer retirement plans .
The biggest change, however, would create a new tax-subsidized savings program called a Universal Savings (USA) Account. Participants would be able to contribute a maximum of $2,500 annually (but no more than the amount of their annual compensation). The maximum contribution level is indexed for inflation.
Flexible distribution rules
While there is no exclusion for contributions to the new accounts, distributions would be tax free, much like Roth IRAs. However, USA accounts are not retirement plans, and money can be withdrawn at any time for any reason.
The idea begs the question: Why is Congress creating a new tax-preferred savings vehicle? We already have IRAs and 401(k)s, with both traditional and Roth versions of each. We have other retirement savings vehicles such as Keogh plans, SEPs, SIMPLEs, and individual 401(k)s. There are tax-advantaged savings for health care (Health Savings Accounts), college education (529 accounts) and support for young people with disabilities (ABLE accounts).
The contribution and withdrawal rules for most of these plans are different. So are the eligibility requirements. Does the nation need yet another account with yet another set of rules?
We have learned from behavioral economics that offering ordinary people a cacophony of tax-advantaged savings plan has the effect of diminishing incentives to save. Confronted with a myriad of choices, prospective savers do…nothing.
The biggest beneficiaries
We also know that high-income households are by far the biggest beneficiaries of tax-free savings. TPC’s analysis of retirement accounts finds that the highest income 20 percent of households (those making $153,000 or more) get nearly all the tax benefit of those savings accounts. Those making between $320,000 and $755,000 (the 95-99th percentiles) get nearly half.
To put it another way, just 5 percent of those making $25,000 or less get any tax benefit at all from existing retirement savings incentives, while nearly 8 in 10 of the top 20 percent get at least some tax break—with an average tax benefit of about $4,300 or about 1.6 percent of their after-tax income.
Adding yet another tax-free savings account likely will follow the same pattern. High income people with lots of disposable income who already have maxed out on their contributions to existing tax-favored plans will have yet another opportunity to drop an extra $2,500 in another tax-free account. Most will merely shift the cash from a taxable account to one where assets can build up tax-free. The amount of new savings: Zero.
And those with low- and moderate-incomes, who don’t take full advantage of the accounts they have already? Some won’t have the disposable income they need to create yet another account. Others may be tempted to shift money into a USA account because the withdrawal rules would be much more flexible than a 401(k). But for some that would be a mistake. If, for example, you work for a company that matches your 401(k) contribution and you have not maximized the match, diverting cash to a USA account could be an especially poor choice.
USA accounts may be just another way to eliminate the tax on capital income. But these accounts are unlikely to enhance savings for many families, the bill’s title and its $8.6 billion 10-year cost notwithstanding .
Posts and comments are solely the opinion of the author and not that of the Tax Policy Center, Urban Institute, or Brookings Institution.
Tony Avelar/AP Photo